Yesterday, we gave a speech to a group here in Cafayate. What we said, more or less, follows:

Today, I'm going to tell you about the end of the world.

Not really the end of the world, of course. But the end of the financial system that was set up in 1971. And I think it may feel like the end of the world, because of the social chaos it will provoke.

Money is more than money. It is condensed life. It can represent a lifetime's work and saving. Or the status of a person who has earned an important position and now earns a salary to match. Or, the cleverness of a trader.

When the money turns out to be fraud, everything else can look like a fraud too. The hard work and self-discipline, the honest business and energetic enterprise, the education or skill accumulated over the years - all the things it took to get the money look like a waste of time. When the money is phony, it calls into question the values and virtues of the whole system.

And let me begin with a disclaimer that is so obvious that it shouldn't be necessary,

--- Advertisement ---
The Big Names Could Have A Hard Time Living Up To Our Recommended Small Caps...

It may sound strange but it's true...

Some of our recommended small caps have given amazing returns. Sometimes even more than many big name companies.

Returns like 217% in 3 years and 11 months, 177% in around 2 years, 100% in 1 year 8 months and more have graced the investments of our subscribers.

...And proven our belief that well chosen Small Caps are capable of delivering returns better than big name companies too.

Yes! Over the past 7 plus years, we have seen several of our research and recommendations deliver returns that have made our subscribers happy and us proud.

But I don't want anyone coming up to me a few years down the road and telling me that I was wrong. I've been wrong about a great number of things...and for a very long time. I don't need any reminders.

And if you think I've got this all figured out...you've got me mixed up with someone else.

Of course I'm going to be wrong. It is not given to man to know his fate. There are so many possible futures, the odds that I have chosen the right one are slim. So, I will probably be wrong. And I hope I am.

But the mark of a good economist is that he can make bad forecasts, one after another, without losing his conviction.

And if I am only partly right - which is most likely - you might want to keep this in mind and maybe even prepare for it.

Of course, I've been predicting the end of the world - at least, the end of the post-1971 monetary world - for a long time. Sooner or later I'll be right about it. But I'm beginning to feel I'm doing you a disservice by continuing to warn about it. I'm a little like the surgeon who has just botched an operation. He sees the patient, stiff on the table, and wonders if he should go back to the textbooks. Maybe the ankle bone is not connected to the leg bone after all.

But the textbooks are largely hopeless. They're written by modern economists who think an economy is mechanistic, not humanistic. They have fixes for every problem and wrenches in both hands.

They run the central banks. And they think they know what is going on...and what they're going to do about it. So they give you "forward guidance." But it is worthless. Worse than worthless, it suggests knowledge and foresight, neither of which the authorities actually have.

Do you remember the Fed giving us 'forward guidance' before the crisis of '08? I don't. In fact, Ben Bernanke and Janet Yellen had no idea what was happening. They couldn't give any forward guidance about that crisis and can't give any about the next one.

They just react to events. They neither see them coming nor control them. And they have only one major reaction - more credit. But you can't solve a debt problem with more debt. Debt is
all the Fed has. And that is what it and the ECB and the BOJ are offering...more credit, and its flip side, more debt. They are committed to this policy of providing more and more credit to a world that is already drowning in it.

I should stop here and say a few words about how this economy actually works.

These clumsy mechanics at the Fed ECB and JOB think they can turn knobs, adjust levers And so forth. But an economy is an organic thing, with intricate feedback loops and delicate adjustment
systems . It responds to the ham-fisted grease monkeys at the Fed, but not necessarily the way the feds want. It is far more complex than they can ever understand, let alone
control.

Right now, they are getting away with staggeringly, jaw-dropping policies. The markets are not yet punishing them. In fact, they seem to be rewarding this kind of innovation. And our US Fed is hardly the biggest innovator or the most world's most aggressive central bank.

In Europe, for example, what is an Italian 10-year bond yielding 1.1% if not an invitation to trouble. How about a Spanish bond at the same yield? Or how about a super safe German bond with a yield of 0.2%?

It's impossible to know what will happen - exactly - but that someone is going to lose money as a result of these ultra-low bond yields. They're unnatural. Ghastly. And dangerous.

In Europe, as in America, consumer prices have been rising sharply for the last 40 years. Maybe that trend has come to an end. If so, the central banks are keeping quiet about it. Their forward guidance tells us to expect 2% per year. And if that is so investors in all these European sovereign bonds will lose investors' money.

But the risk is not just that consumer prices will rise faster than the yield will pay interest, it is also that the payer won't pay. Europe's governments are deeply in debt. It is not likely that they will ever be able to repay so much debt. And the ECB is making it easier to go further into debt. In its latest initiative, the ECB is buying 4x the new debt issues in the Eurozone.

Europe already has the lowest bond yields in 150 years. One third of the total now trades at negative yields. What sense does it make to drive yields lower still...by bidding up further the price of bonds?

None at all...except that the ECB is cynically taking a lot of bad debt off the hands of its member banks - at a profit to them.

And try to imagine the European government that will reject an increase in health care spending, or infrastructure spending, or any kind of spending, when the money is essential free.

The central bank of Europe is effectively financing all the continent's deficits - and all of its peoples' delusions -- and asking nothing in return.

And this, by the way, is why Krugman, Summers and even our friend Richard Duncan are urging the US to take advantage of this free money in order to launch a massive public works project - just like Japan has done for the last 25 years. Because the money is free. The central bank creates it out of nowhere. It comes with a coupon that is, net of inflation, zero or less than zero. And the feds never have to pay it back.

When the central bank buys a bond, it effectively cancels the debt. It is no longer in play...no longer in the market. The interest payments are nothing...and the central bank rolls over the principle, forever. In other words, the central banks disappear the debt completely.

That's Europe. Japan is always ahead of us. It invented QE. And ZIRP. And now it is financing 100% of its government deficits with easy central bank credit. It has been doing this for years. So, that is nothing new

But the clever Japanese have yet another trick up their sleeves. Not only are they directly buoying up the bond market. They're doing the same with the stock market.

My head spins. But it's true.

When it comes to overdoing it, nobody overdoes it better than the Japanese. Remember, near the close of WWII, when the war was clearly lost, the Japanese pilots strapped themselves to flying bombs. These kamikazes took to the air hoping to die in a fiery explosion on the deck of a US aircraft carrier.

Today, it's Japan's monetary policies that seem death-bent. Each month, the BOJ straps itself to another (relative to the size of its economy) a quarter of a trillion dollars, debt added to its balance sheet. This has effectively killed the Japanese bond market; the only buyer is the BOJ.

It continues to provide unlimited credit, allowing the Japanese government to continue going deeper and deeper into debt. It already has the biggest nut in the world - with government debt equal to 240% of GDP. Even at today's microscopic interest rates more than 40% of Japan's current tax receipts go to interest payments . If interest rates ever returned to normal, debt service would take 100% of tax receipts.

What has Japan gotten for all its deficits and debt? Nothing. It's GDP has been flat for the last 20 years.

But it keeps at it. And not only that, it has come up with a new trick - more explosives to strap onto its financial kamikazes.

Yes, why stop at buying bonds. Why not buy stock too?

It turns out, the Bank of Japan has been a buyer of Japanese ETFs since 2010. And in September 2014 the BOJ bought a record amount of stock through its ETF buying program. This makes it the single largest holder of Japanese stocks in the world, with 1.5% of total capitalization.

It may come as no surprise to you, too, that the BOJ chooses to buy the dips. I doubt that this is because the BOJ is a value hunter. Instead, it is almost certainly because the BOJ wants to manipulate stock prices directly, just as it does with bond prices. It has gone into the market one in every three days since 2010, reports the Wall Street Journal.

Where does this lead?

To a fiery crash!

Part II of my speech in Cafayate....tomorrow.

Bill Bonner is the President & Founder of Agora Inc, an international publisher of financial and special interest books and newsletters.

Disclaimer:The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and have not been authenticated by any statutory authority. The author and Equitymaster do not claim it to be accurate nor accept any responsibility for the same. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Please read the detailed Terms of Use of the web site.